Private Goods, Public Goods, and In Between• Private Goods: Rival and exclusive – Pizza – Sodas – Shoes• Public Goods: Non-rival and non-exclusive – Public Defense – Parks
Private Goods, Public Goods, and In Between• For-profit firms can’t profitably sell public goods. – Thus, the government comes to the rescue by providing public goods and paying for them through enforced taxation. – Sometimes non-profit firms provide these goods.
Private Goods, Public Goods, and In Between• In Between: non-rival but exclusive – Cable – Internet • These are natural monopolies• Rival but nonexclusive – Hunting – Fishing • They are nonexclusive in that it would be costly if not impossible for a firm to prevent access to these goods
Open-access goods• A good that is rival in consumption but non- payers cannot be excluded easily.
Optimal Provision of Public Goods• Non-rival in consumption – Once produced, the good is available in that amount to all consumers.• Market Demand Curve – The vertical sum of each consumer’s demand for the public good.• Efficient level of the public good – Market demand curve intersects the marginal cost curve – Where the sum of the marginal valuations equals the marginal cost
LO1 Exhibit 2 Market for Public Goods Because public goods, once produced, are available to all in identical amounts, the demand for a public good is the vertical sum of each individual’s demand. The market demand for mosquito spraying (D) is the vertical sum of Maria’s demand, Dm, and Alan’s demand, Da.The efficient level: MC of mosquito spraying equals its marginal benefit; atpoint e, where the marginal cost curve intersects the market demand curve.
Paying for Public Goods• The efficient approach would be to impose a tax on each resident equal to his or her marginal valuation.• Problem with this: – Once people realize their taxes are based on government estimates of how much they value the good, they will understate their true valuation. • Thus, they create a free-rider problem. – The ability to pay the tax
Free-Rider Problem• Because a person cannot be easily excluded from consuming a public good, some people may try to reap the benefits of the good without paying for it. – Going to a park outside of your town.
Median-Voter Model• The median-voter is the one whose preferences lie in the middle of all voters’ preferences. – It predicts that under certain conditions, the preference of the median, or middle, voter will dominate other choices.
Special Interest• Rational self-interest assumption of economic behavior – Elected officials try to maximize their political support – How? • Cater to special interests rather than serve the interest of the public
Rational Ignorance• Why don’t consumers stop this behavior? – They consume so many different products that they have neither the time nor the incentive to understand the effects of public choices on every product. – Tiny possibility of influencing public choices – So, what do they do? • Rational ignorance: they remain largely oblivious to most public choices. • MC>MB for each public choice
Rational Ignorance• Because information and the time required to acquire and digest it are scarce, consumers concentrate on private choices rather than public choices.• The payoff is more immediate, more direct, and more substantial.
Distribution of Benefits and Costs• Four possible categories of distribution: – Widespread benefits and widespread costs – Concentrated benefits and widespread costs – Widespread benefits and concentrated costs – Concentrated costs and concentrated benefits
Traditional public-goods legislation• This legislation involves widespread costs and widespread benefits-nearly everyone pays and nearly everyone benefits. – National defense
Special-interest legislation• Benefits are concentrated but costs widespread – These usually harm the economy on net, because total costs often exceed total benefits – Pork-barrel spending: special-interest legislation with narrow geographical benefits but funded by all taxpayers.
Populist legislation• Legislation with widespread benefits but concentrated costs. – Because the small group that bears the cost is savvy about the impact of the proposed legislation but those who would reap the benefits remain rationally ignorant, populist legislation has little chance of approval. – The only way such measures get approved is if some political entrepreneur raises enough visibility about the issue to gather public attention and votes.
Competing-interest legislation• Legislation that confers concentrated benefits on one group by imposing concentrated costs on another group. – Labor unions vs. employers – Steel makers vs. GM
LO2 Exhibit 3Categories of Legislation Based on the Distribution of Costs and Benefits
Rent Seeking• Special-interest groups seek some special advantage or some outright transfer or subsidy from the government – Rents: An amount that exceeds what the producer would require to supply the product. – Rent Seeking: the activity that interest groups undertake to secure these special favors from government
Rent Seeking• These special interest groups shift resources from productive endeavors that create output and income to activities that focus more on transferring income to their special interests.
LO2 Farm Subsidies The Agricultural Marketing Agreement Act, 1937Case Study Prevent ‘ruinous competition’ One in four Americans: farm Floor prices 2007 One in fifty Americans: farm $18 billions a year
LO2 Farm Subsidies To subsidize farmers, consumers payCase Study Higher product price For the surplus (taxpayers) For storage (the government buys the surplus) E.g. milk Free market p=$1.50 Subsidized p=$2.50+$2.50+$0.50 Farmers: normal profit
LO2 Exhibit 4 Effects of Milk Price Supports No government intervention: market price = $1.50 per gallon, Excess quantity supplied S and 100 million gallons are sold per month.Dollars per gallon $2.50 Government: floor price = $2.50 per gallon, quantity supplied 1.50 increases and the quantity demanded decreases. D To maintain the higher price, the government must buy the excess quantity at $2.50 per gallon. Millions of 0 75 100 150 gallons per month
Example of Farm Subsidies-”StosselExample of Farm Subsidies-”Stossel in the Classroom” in the Classroom”
The Underground Economy• Does a tax discourage production? – When a government taxes more, less production takes place. – Underground Economy: an expression used to describe market activity that goes unreported either because it is illegal or because those involved want to evade taxes. • Tips
What are the effects of taxing productive activities?• Two Effects: – Resource owners may supply less of the taxed resource because the after-tax wage declines. – To evade taxes, some people shift from the formal, reported economy to an underground, “off the books” economy.
When do underground economies grow?• Government regulations increase• Tax rates increase• Government corruption is more widespread
Ownership and Funding of Bureaus• Bureaus: government agencies charged with implementing legislation and financed by appropriations from legislative bodies – They do not have to meet a market test – Different incentives than for-profit firms
Ownership and Organizational Behavior• Because public goods and services are not sold in markets, government bureaus receive less consumer feedback and have less incentive to act on any feedback they do receive.• Because the ownership of bureaus is not transferable, there is less incentive to eliminate waste and inefficiency.
Bureaucratic Objectives• The traditional view is that bureaucrats are “public servants,’ who try to serve the public as best they can. – Is this realistic?
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